As we show in our forthcoming book, the continued borrowing by western countries was not sustainable and by 2008 global demand for Chinese goods collapsed. China’s current account surplus declined from over 10% of GDP in 2007 to about 2% in 2011 and put severe downward pressure on China’s growth rate. How could China create new demand for its productive capacity?

The answer once again came in the form of a rapid rise in domestic private debt. The Chinese state-owned banks with explicit prodding from the government opened their spigots. The country has seen an explosive growth in domestic private debt since 2008. In fact the graph above does not do justice to the actual increase in debt because it misses the large increase in domestic debt due to the rise of “shadow banking system” in China.

The basic point is that China is looking increasingly towards higher domestic debt to sustain its growth rate. But if we have learned anything from Kindleberger, it is that such tendencies should raise concerns.

We can summarize China’s reliance on debt with another picture. The graph below plots the change in China’s net foreign assets position (an increase means that China’s lending to foreigners is increasing faster than GDP) against the change in China’s domestic credit creation (an increase means that China’s domestic debt is increasing faster than its GDP).

One can see a strong negative relationship between the two: Either foreigners must increase borrowing at a faster pace than GDP, or locals must borrow faster. Of course, neither is sustainable in the long run!

The idea of a Chinese economic crash worries me. In the past 30 years we have dramatically changed our view of China, from the "Empire of the Blue Ants" in the Cold War to "Workshop of the World" in the age of globalism. Tourist destinations now depend on Chinese tourists, and Chinese demand for resources has driven the prosperity of countries from Australia to Brazil. My own province is betting our future on selling liquefied natural gas to fuel endless Chinese economic growth.

So a crash would not just hurt 1.3 billion Chinese; it would hurt everyone. It would also likely trigger social unrest on a scale unseen since the Great Proletarian Cultural Revolution of the 1960s and early 70s...maybe even as bad as the 1958-62 Great Leap Forward, when over 30 million died in a politically induced famine.

Mao could (barely) get away with such disasters; his successors could not. Thousands of local disturbances and protests already occupy the Public Security Bureau, not to mention terrorist attacks by western Chinese separatists. The present system isn't pretty and isn't remotely democratic, but it has raised hundreds of millions out of poverty (while providing us with cheap goods).

Significantly, China's prosperity has supported the rapid growth of a pretty good public health system, one capable of identifying and dealing with outbreaks of new diseases. An economic crash would surely bring down Chinese public health along with it, and we would see worse than dead pigs floating in the Huangpu River.

We might also see worse than SARS arriving on the last planes out of Hong Kong and Shanghai. If our political masters run true to form, they will cut back public spending when the crash comes, and our own public health systems will crack. So whatever comes at us across the Pacific (or the Atlantic) will find easy targets.

As we show in our forthcoming book, the continued borrowing by western countries was not sustainable and by 2008 global demand for Chinese goods collapsed. China’s current account surplus declined from over 10% of GDP in 2007 to about 2% in 2011 and put severe downward pressure on China’s growth rate. How could China create new demand for its productive capacity?

The answer once again came in the form of a rapid rise in domestic private debt. The Chinese state-owned banks with explicit prodding from the government opened their spigots. The country has seen an explosive growth in domestic private debt since 2008. In fact the graph above does not do justice to the actual increase in debt because it misses the large increase in domestic debt due to the rise of “shadow banking system” in China.

The basic point is that China is looking increasingly towards higher domestic debt to sustain its growth rate. But if we have learned anything from Kindleberger, it is that such tendencies should raise concerns.

We can summarize China’s reliance on debt with another picture. The graph below plots the change in China’s net foreign assets position (an increase means that China’s lending to foreigners is increasing faster than GDP) against the change in China’s domestic credit creation (an increase means that China’s domestic debt is increasing faster than its GDP).

One can see a strong negative relationship between the two: Either foreigners must increase borrowing at a faster pace than GDP, or locals must borrow faster. Of course, neither is sustainable in the long run!

The idea of a Chinese economic crash worries me. In the past 30 years we have dramatically changed our view of China, from the "Empire of the Blue Ants" in the Cold War to "Workshop of the World" in the age of globalism. Tourist destinations now depend on Chinese tourists, and Chinese demand for resources has driven the prosperity of countries from Australia to Brazil. My own province is betting our future on selling liquefied natural gas to fuel endless Chinese economic growth.

So a crash would not just hurt 1.3 billion Chinese; it would hurt everyone. It would also likely trigger social unrest on a scale unseen since the Great Proletarian Cultural Revolution of the 1960s and early 70s...maybe even as bad as the 1958-62 Great Leap Forward, when over 30 million died in a politically induced famine.

Mao could (barely) get away with such disasters; his successors could not. Thousands of local disturbances and protests already occupy the Public Security Bureau, not to mention terrorist attacks by western Chinese separatists. The present system isn't pretty and isn't remotely democratic, but it has raised hundreds of millions out of poverty (while providing us with cheap goods).

Significantly, China's prosperity has supported the rapid growth of a pretty good public health system, one capable of identifying and dealing with outbreaks of new diseases. An economic crash would surely bring down Chinese public health along with it, and we would see worse than dead pigs floating in the Huangpu River.

We might also see worse than SARS arriving on the last planes out of Hong Kong and Shanghai. If our political masters run true to form, they will cut back public spending when the crash comes, and our own public health systems will crack. So whatever comes at us across the Pacific (or the Atlantic) will find easy targets.